Question

State whether the following statements are true, false or uncertain and briefly explain the reason for your choice. Your grade will largely depend on the quality of your explanations.

1. If a 1 percent increase in price leads to a 0.7 percent increase in quantity supplied, the short‑run supply curve is inelastic.
2. If the market for bottled spring water is characterized by a very elastic supply curve and a very inelastic demand curve, an outward shift in the supply curve would be reflected primarily in the form of lower prices.
3. Firms in long‑run equilibrium in a perfectly competitive industry will produce at the low points of their average total cost curves because firms maximize profits and free entry implies that maximum profits will be zero.
4. In the very short run price and quantity supplied are absolutely fixed.

Answer 1

a) true

If quantity demanded changes by less than one to one then the elasticity is less than one. Hence the demand curve is Inelastic. In this case quantity demanded falls by just 0.7 if price rises by 1. So it is less than one to one. So the demand curve is Inelastic.

b) false

Price change leads to movement of demand curve and not the shift. Price changes leads the change in quantity demanded and causes movement across the demand whereas changes in factors other than prices leads to shift in the demand curve.

c) true

In the long run firms earn zero profits because if it would be earning more than that then there would be entry of new firms but in the long run number of firms remain fixed.

d) false

The quantity supplied is fixed but the prices can change in the very short run. So only the quantity supplied is fixed and not both.